Hi all,
I would appreciate it very much if someone could clarify how to choose between Pooled OLS with clustered standard errors or Random Effects. Since composite error term in panel data consists of two term (u(i) + e(i)) the need to cluster with fixed effect regression is clear: although u(i) is removed but we still have e(i,t) to worry about and thus we cluster. However, when comparing random effects (xtreg, re cluster()) and pooled OLS with clustered standard errors (reg, cluster()), I have hard time understanding how one should choose between the two. Random effects don’t get rid of u(i) and therefore clustering addresses heteroskedasticity and autocorrelation for both terms i.e u(i) and e(i.t) but so should pooled OLS with clustered standard errors. Is there a difference and what should be the guiding principle for choosing one over the other.
Thanks
I would appreciate it very much if someone could clarify how to choose between Pooled OLS with clustered standard errors or Random Effects. Since composite error term in panel data consists of two term (u(i) + e(i)) the need to cluster with fixed effect regression is clear: although u(i) is removed but we still have e(i,t) to worry about and thus we cluster. However, when comparing random effects (xtreg, re cluster()) and pooled OLS with clustered standard errors (reg, cluster()), I have hard time understanding how one should choose between the two. Random effects don’t get rid of u(i) and therefore clustering addresses heteroskedasticity and autocorrelation for both terms i.e u(i) and e(i.t) but so should pooled OLS with clustered standard errors. Is there a difference and what should be the guiding principle for choosing one over the other.
Thanks
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